What cover with no power?

SHARE | Monday, 07 September 2015 | By Kabelo Adamson

Value of foreign reserves a cover for the economy

Economists justify the value of foreign reserves as a cover for the economy

The country’s foreign exchange reserves are currently standing at just over P80 billion, and questions have been raised as to why the funds cannot be availed to invest in countering the challenges facing the country.

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Such challenges range from water and electricity shortages to high unemployment rate. Economists argue that it would be suicidal for a mineral-based economy like Botswana to spend all the country’s foreign reserves.

This in their opinion is because mineral prices fluctuate from time to time and therefore one cannot predict with any degree of certainty how much the revenue the country will derive from sales of minerals, particularly diamonds.

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The issue of foreign reserves has become a hot topic off late. Recently at an event to launch David Magang’s book, Delusions of Grandeur, Dr Thapelo Matsheka – who currently serves as the CEO of AON Botswana – expressed his reservations towards the management of the foreign exchange reserve.

Botswana has since attaining independence almost five decades ago graduated from a poor status economy to an upper middle income economy, and at some point it was one the world’s fastest growing economies in GDP terms.

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Matsheka’s argument was based on the subject of security against self-sufficiency on the face of worst power and water shortages this country has ever experienced.

However other economists hold a different view. “The problems of power and water shortages are not a result of shortage of funding but problems of poor planning and mismanagement of major investments projects,” said Dr Keith Jefferies, former Bank of Botswana (BoB) Deputy Governor and now Managing Director of Econsult.

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Matsheka had asked whether it was appropriate to boast of an import cover of 33 months when other countries have had a cover of four months and done more investments than Botswana.

Jefferies contended that foreign exchange reserves are of significant importance, particularly to a mineral-based economy like ours. “Foreign exchange reserves underpin the balance of payments and exchange rate policy. They provide a buffer against shocks and are particularly important for a mineral economy, which is exposed to price and demand shocks,” said Jefferies, adding that foreign reserves also helps in the eventual depletion of the main export source.

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Simply put, foreign exchange reserves help a mineral economy to adjust to earnings and volatility, according to Jefferies.

Botswana’s foreign reserves stood at P84,536 million as of June 2015 and in Matsheka’s view, this huge cover creates laxity and unnecessary comfort which it now appears Botswana has enjoyed at a cost to the investment it should have made to avert today’s challenges.

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Jeffries said people should not be led into believing that foreign exchange reserves translate into direct cash. “Firstly, only a portion of foreign exchange reserves belong to government. It is only a portion represented by government deposits at BoB that are in principle available to government for spending purposes,” he said.

Secondly, Jefferies said foreign exchange reserves serve multiple purposes and depleting them would undermine macroeconomic stability. “Foreign exchange reserves are essential for macroeconomic stability in a mineral economy,” said Jefferies.

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Huge as they maybe, Jefferies said Botswana’s foreign exchange reserves are way too smaller than those accumulated by other major mineral exporters. Not only are they small but Botswana’s foreign exchange reserves are said to have declined over the years compared to when they were at their peak around the year 2000.

“Most of Botswana’s mineral earnings have been spent on education, health or investment in infrastructure, and only a very small portion accumulated in foreign exchange reserves,” he said.

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Magang, who himself is an accomplished businessman, has questioned the impact of the country’s foreign exchange reserves on the lives of Batswana. His argument is that, having built what he calls Mount Kilimanjaro of foreign reserves over the years and said to be one the healthiest economies in Africa, what is ironic is that there is little to show in terms of tangibles on the ground.

He supported his views by the overwhelming number of the youth who still remain unemployed and the increasing poverty levels, mainly in rural areas.

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Head of Research at Motswedi Securities, Garry Juma agreed with Jefferies’ sentiments. He blamed the issue of shortage of water and electricity cannot be fully attached to lack of funds, but rather implementation.

Juma expressed his worries that if the government was to spend its foreign exchange reserves, given fluctuating global commodity prices, the move will certainly come back to haunt the economy as there would be nothing to cushion it.

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Juma said foreign exchange reserves are meant to cushion the country’s economy in the case diamonds prices are exposed to shock. He said with the country being commodity based, fluctuations in prices are bound to happen and it is during such times that the country can dig in its foreign exchange reserves.

He said as minerals are exposed to external factors such as prices, one cannot say with any certainty on how much revenue the country will get in immediate future and it is therefore important to have import cover in foreign reserves.

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In in the 2016/17 Budget Strategy Paper from the Ministry of Finance and Development Planning, the government has noted that a growth rate of 2.6 percent is forecast for 2015, underpinned by the expected decrease in demand for diamonds. The government has further cautioned about the looming deficit and Juma explained that it is during such times that the foreign exchange reserves can be used to fund the deficit.

A Research Manager at FNB Botswana, Moatlhodi Sebabole said the government has to balance between a conservative spending pattern and driving infrastructure developments such that there are no mega projects backlogs and economic diversification is attained within reasonable time periods.

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Sebabole said the foreign reserves are important in such that they safeguard the financial stability of the country, over and above other economic polices like fiscal and monetary policy.

He said that there are more benefits associated with the foreign exchange reserves as they can help in fiscal consolidation, especially after crisis period as the government can use them as a buffer against significant decline in revenues.

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Additionally, they can be used to cover some short-term existing government debts and thus allow for other funds to be spent on productive economic activities such as infrastructure developments.

Sebabole said given the current economic downturn, more stimuli was necessary to generate growth and allow for different sectors to prosper and contribute to growth.